Drop in latex prices a boon.
Between June to August, average latex prices were soft, declining 19% y-o-y and 5% q-o-q to RM4.38/kg. This in turn should benefit Top Glove as 50% of its production revolves around natural rubber gloves; we estimate that every 1% drop in raw material cost could increase its earnings by 3%. That said, we foresee latex prices creeping up to the RM4.50-5.00/kg range in 4Q18.
We noticed the natural rubber inventory in Qingdao (main source of raw materials for China’s tire output) has fallen 8% ytd and could prompt some replenishment activities.
Booster from forex tailwinds.
Rising threat of demand tapering?
Management shared it is still seeing only 40-45 days of forward orders, shorter than Dec 17's level of 50-60 days. Generally, we remain concerned about:
Update on lawsuit.
We think the legal dispute with Adventa Capital is going to be a long drawn-out fight.
More recently, Top Glove obtained a new interim Mareva injunction (premised on fresh message evidence) to freeze and prevent dissipation of assets worldwide against the vendors of Aspion. The next court hearing takes place on 29 October. Besides, there could be a material one-off impairment in the upcoming 4QFY18 results pertaining to the overvaluation for the purchase of Aspion.
Recall that Top Glove is seeking an amount of RM640m.
4QFY18 results preview.
Top Glove is slated to release its 4QFY18 results sometime in mid-October.
Despite some mixed signals and save for the potential one-off impairment, we expect a better overall performance with quarterly revenue coming in at ~RM1.2b and core profit of between RM130m-140m (+2-10% q-o-q/+61-74% y-o-y). This is premised on the back of:
Recall that Top Glove registered top- and bottom-lines of RM1.1b and RM127m in 3QFY18 respectively with lesser impact from the above-mentioned developments.
No changes to our FY18 earnings forecast, but we have revised up our FY19-20 estimates by 4-6% on higher US dollar forex assumption (+3% to RM4.18/US$ from RM4.08/US$).
Key upside risks include:
Maintain SELL but with a higher target price of RM8.20 (from RM7.80) as we have raised our earnings forecasts.
For the valuation methodology, we are still employing the same price multiple, pegging Top Glove to an unchanged 18x 2019F PE. This is +0.5SD above its 5-year forward mean PE of 16x but below the sector’s 29x. The premium is fair as:
That said, the discount to the glove sector is warranted, considering its relatively stretched balance sheet (net gearing of 0.8x vs peers' average of 0.1x).
Post-bonus issue, our target price would be RM4.10, excluding the potential dilution from full guaranteed exchangeable bonds conversion into new Top Glove shares pending more details of the exercise.
Source: UOB Kay Hian Research - 3 Oct 2018
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